Law firm overhead – Can we cut?

During our program at the recently concluded ALM Law Firm Leaders conference, today, Running Your Firm as a Business – A Closer Look at the Middle Office, I had an ah-ha moment!  The moderator of our panel, Ron Friedmann, Senior Vice President Marketing of Integreon, talked about Australia’s law firm, Mallesons. The firm received an award for innovation from the College of Law Practice Management. Their project created a whole new office environment – ostensibly this was to reduce expenses, but actually had a dramatic impact on revenue by enhancing their service for the benefit of clients; they increased the number of client contacts..

The basic equation of running any business, including a law firm, is P=R-E.  Profits equals revenue less expenses. Our panel described various methods to decrease overhead expenses. But, after everything is said and done, Jeffrey Grossman, Senior Vice President, National Managing Director, Credit and Advisory Services, Legal Specialty Group of Wachovia, wrote in the current edition of The American Lawyer, “You’re not going to save your way out of the problem…” He continued by saying that “discretionary spending is a minor part of a firm’s budget.” Ralph Baxter, of the Orrick law firm, said that cutting back on expenses can save millions of dollars. While he is correct, his is a large firm; and his savings is still only a small percentage of the revenue.

Rent is fixed. Yes, you can conduct an audit that may show you are being overcharged and get a refund, not a reduction of rent. But the basic amount is fixed. Your staff expenses are fixed. Yes, you can terminate employment but this will be expensive and at some point will result in cutting the meat of the firm, not just the fat.

For large firms, a major savings in this regard is to hire smarter, both new associates and lateral partners. Managing partners with whom I’ve discussed this issue tell me that it cost the firm $250,000 to $500,000 for each lawyer they terminate. Aside from what I consider to be immoral conduct in hiring people you know will be terminated in a year or two or three … it is poor economics! Saving this money goes directly to the bottom line to increase profits.

Your malpractice insurance premium is set. Yes, your premium is set at the beginning of the premium year and you may be able to add lawyers during that year without an increase … but the amount is set.

These are the top three expenses of all law firms. Other than these expenses, there is not a lot to cut that has a dramatic impact. Years ago, as an associate, I asked the managing partner if I could spend some money for practice development. He told me that I could never spend enough to worry him; that a new client will produce far greater benefit and impact the bottom line far more than any expenditure.

The conclusion is that focusing your energy on producing revenue will produce greater benefits than focusing your energy on reducing overhead. And the truth is that we have to do both … but it is misplaced energy to be obsessive about cost reduction at the expense of client prospecting.

But, while speaking, I suddenly realized that P=R-E is a linear equation. Lawyers generally think in linear format, but the better way is to incorporate Malleson’s innovative approach when thinking about expense reduction. The firm took an expense issue, considered it in a holistic fashion and then thought about how their change might impact the firm’s revenue. The change had the effect of increasing the contacts with and responses to clients.  In other words, the firm didn’t merely cut an expense, they used a change to reduce expenditures that positively affected their revenue. Thus, looking at this issue with a holistic approach will achieve more! That was my ah-ha moment.

Categorized in: Cash Flow - Finances, Management